Pattern of earnings per share


Problem 1. Carrie Tune will receive $19,500 for the next 20 years as a payment for a new song she has written. If a 10 percent rate is applied, should she be willing to sell out her future rights now for $160,000?

Problem 2. If you owe $40,000 payable at the end of seven years, what amount should your creditor accept in payment immediately if she could earn 12 percent on her money?

Problem 3. Wilson Oil Company issued bonds five years ago at $1,000 per bond. These bonds had a 25-year life when issued and the annual interest payment was then 8 percent. This return was in line with the required returns by bondholders at that point in time as described below:

Real rate of return    2%
Inflation premium     3
Risk premium           3
Total return              8%

Assume that 10 years later, due to bad publicity, the risk premium is now 6 percent and is appropriately reflected in the required return (or yield to maturity) of the bonds. The bonds have 15 years remaining until maturity. Compute the new price of the bond.

Problem 4. Haltom Enterprises has had the following pattern of earnings per share over the last five years:

Year    Earnings per Share
2000    $3.00
2001    3.18
2002    3.37
2003    3.57
2004    3.78

The earnings per share have grown at a constant rate (on a rounded basis) and will continue to do so in the future. Dividends represent 30 percent of earnings.

A. Project earnings and dividends for the next year (2005). Round all values in this problem to two places to the right of the decimal point.

B. If the required rate of return (Ke) is 10 percent, what is the anticipated stock price at the beginning of 2005?

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Finance Basics: Pattern of earnings per share
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